As Cadillac Tax Approaches, Opponents Seek Repeal

November 13, 2015 | Cullen Biever, Nathan Baugh

About 160 million Americans currently receive their health insurance through their employer tax free. This Employer Sponsored Insurance (ESI) tax exemption costs the U.S. government $250 billion in tax revenue annually, making it the third largest health program in the United States. However, due to a provision in the Patient Protection and Affordable Care Act (ACA), a portion of certain costly health plans will begin to be taxed in 2018. This provision is known as the “Cadillac Tax”.

What is the Cadillac Tax?

Filing Status

Annual Premium Expenditure (Employer + Employee)

Cadillac Tax Threshold (2018)

Excise Tax levied

Individual

$10,000

$10,200

$0

Individual

$11,000

$10,200

$320

Individual

$13,000

$10,200

$1120

Individual

$15,000

$10,200

$1920

Family

$26,000

$27,500

$0

Family

$28,000

$27,500

$200

Family

$30,000

$27,500

$1000

Family

$32,000

$27,500

$1800

The “Cadillac Tax” creates a 40% federal excise tax on health plans with premium spending that surpasses $10,200 for single coverage and $27,500 for family coverage beginning in 2018. We have included the chart below to help demonstrate how the tax works. It is important to note that only the annual premium expenditure above the threshold is subject to the tax.

In 2018, an estimated 17% of ESI plans will be subject to this Cadillac Tax and approximately 33% of ESI plans will be subject in 2024. The percentage of plans that cross the Cadillac Tax threshold is projected to increase because while the threshold is indexed to the Consumer Price Index, the cost of health plans should more closely mirror medical inflation, which is rising faster than other sectors of the economy. The tax is expected to generate $32 billion in tax revenue during the first two years and $87 billion in tax revenue by 2025. Analysts project that, in an effort to avoid the Cadillac Tax, employers will shift compensation from health benefits to an employee’s payroll. As a result, roughly 82% of this revenue will come from higher payroll taxes, not the Cadillac Tax itself.

Cadillac Tax – A good or bad thing?

Some economists argue that the current tax exemption effectively subsidizes lavish health care plans. These plans, they argue, encourage riskier health behavior and overutilization of health services that generate excessive insurance claims. As such, these health plans lead to higher health care premiums and costs. The Cadillac Tax was included in the ACA, with the hope that the tax will encourage employers to offer more cost-effective health plans rather than overly generous health plans.

However, the tax has recently faced increased opposition from both sides of the political aisle as the implementation date draws near. “This tax is devastating to over 33 million Americans annually relying on [ESIs] to limit out of pocket costs and lead healthier lives”, Dean Heller, a U.S. Senator from Nevada, told reporters. Critics worry the tax will harm middle-class families. Both union groups and businesses have also expressed their opposition to the tax. The President of the United Brotherhood of Carpenters, Douglas J. McCarron, argued that “This health care excise tax threatens every American worker and it must be repealed . . . The very thought of taxing the middle class because their medical insurance is deemed ‘a Cadillac’ is a direct assault on the quality of lives of our citizens.” Meanwhile, the U.S. Chamber of Commerce is spearheading an effort to repeal the Cadillac Tax.

Both Democrats and Republicans have introduced legislation to repeal this provision. But despite these efforts, repealing the Cadillac Tax before 2017 will be very difficult due to opposition from the Obama administration and a lack of consensus in Congress on how to replace the lost revenue.

What incentives encourage the proper utilization of health care?

The Cadillac Tax, in many ways, stands apart from other provisions of the ACA. On the one hand, the law offers subsidies to people in the individual market and expands Medicaid, but on the other hand, it turns around and taxes other people in the employer market. Some argue that this is a double standard. Why does the law “subsidize” health care for some people and tax health care for others?

Proponents of the law argue that this is appropriate for two key reasons. First, the policy levels the playing field between the individual and the employer health insurance markets. Just as the subsidy for individuals who purchase healthcare in the individual market gets phased out the more income one earns, the tax exemption for employees and employers will no longer be unlimited. Second, proponents argue that, similar to beneficiaries with lavish plans, the behaviors of the uninsured also increase health care costs but for different reasons. Individuals without health insurance do not have access to preventive health care, letting health issues linger, and leading to higher Emergency Room visits and costs. As such, proponents of the ACA argue that it is cost effective to subsidize insurance plans for lower income individuals so that they might receive health care that keeps them healthy and out of the Emergency Room.

With this complex mix of targeted subsidies and taxes, it seems as if policy makers hope to find, for lack of a better phrase, the health insurance “sweet spot”. But it is not readily apparent that this “sweet spot” exists. What co-pay, deductible, premium, and benefit combination results in the most cost effective health outcomes? By taxing expensive, “overly generous” health plans and subsidizing others, the ACA attempts to push people and health plans toward a hypothetically more efficient middle-ground. Whether these policies will work as intended is still an open question.